Impact of Financial Crisis on International Trade

Topics: International trade, Currency, International economics Pages: 38 (11751 words) Published: October 29, 2012
This PDF is a selection from a published volume from the National Bureau of Economic Research

Volume Title: International Trade in East Asia, NBER-East Asia Seminar on Economics, Volume 14 Volume Author/Editor: Takatoshi Ito and Andrew K. Rose, editors Volume Publisher: University of Chicago Press Volume ISBN: 0-226-37896-9 Volume URL: Conference Date: September 5-7, 2003 Publication Date: August 2005

Title: The Effects of Financial Crises on International Trade Author: Zihui Ma, Leonard Cheng URL:

8 The Effects of Financial Crises on International Trade
Zihui Ma and Leonard K. Cheng

8.1 Introduction The world suffered three major financial crises in the last ten years, namely, the European Monetary System (EMS) crisis in 1992–1993, the Mexican crisis in 1994–1995 (which spread to a number of South American countries), and the Asian crisis in 1997–1998. Economists usually believe these crises were the results of weak economic fundamentals, for examples, declining foreign reserve, increasing foreign debt, capital account and current account deficits, fiscal deficit, and so on. Obviously, a current account deficit can be a very important factor because, other things being equal, it increases foreign debt, decreases foreign reserves, and weakens confidence in the exchange rate of the domestic currency. Almost all countries that suffered financial crises had faced rising current account deficits before the crises occurred. So such deficits are widely regarded as an important factor of financial crises. International trade links play an important role in the so-called contagious effect, that is, a crisis in one country causes a new crisis in another country with relatively good fundamentals. Glick and Rose (1999) provided some analysis of the relationship between trade and contagion, while Zihui Ma is lecturer of international economics at Renmin University of China. Leonard K. Cheng is professor and department head of economics at the Hong Kong University of Science and Technology. We thank Chin Hee Hahn, Kozo Kiyota, Andrew Rose and other seminar participants at the Fourteenth NBER-East Asia Seminar on Economics for helpful comments and suggestions. The work described in this paper was substantially supported by a grant from the Research Grant Council of the Hong Kong Special Administrative Region, China (Project no. HKUST6212/00H).



Zihui Ma and Leonard K. Cheng

Forbes (2001) went further to construct some statistics measuring the importance of trade linkages in transmitting crises. Because most economists agree that international trade is one of the important factors in explaining financial crises, it seems natural and logical to ask the reverse question: what are the effects of financial crises on international trade? Surprisingly, little research on this subject has been done. Perhaps the reason is that the answer appears to be obvious. Conventional wisdom would predict that a financial crisis, by bringing about a recession in the macroeconomy, would lead to a drop in imports. Exports, however, may rise because of both a decline in domestic demand and a devaluation of the domestic currency. A weakening or collapse of the financial system, in particular the banking system, however, might weaken the country’s export capability. So the aggregate effects of a financial crisis on the macroeconomy are unclear. This paper tries to ascertain whether the ambiguity can be resolved empirically. We divide all the past financial crises into two types: banking crises and currency crises. These two different types of crises had different attributes and different effects on international trade. This paper begins by analyzing theoretically the effects of banking and currency crises on international trade. Then it uses bilateral trade data, macroeconomic data, and geographic data to test the theoretical predictions. Overall, the empirical results provide support...
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